- Financial Instruments:

Board deliberations focused on the display of the performance of financial instruments, specifically where to set the dividing line between the two columns envisaged for the performance statement: current performance in column 1 and revisions of past measurements in column 2:

The two columns are a consequence of the following principle previously approved by the Board:

Income and expenses resulting from the re-measurement of an asset or liability should be reported separately. 'Remeasurement' refers to the revision of estimates embedded in the carrying values of assets and liabilities.

The principle was then discussed separately for:

• Financial assets and liabilities measured at amortised cost.
• Financial assets classified as available for sale.
• Financial assets and liabilities classified as held for trading.
• Fair value and cash flow hedges.

Financial assets and liabilities measured at amortised cost

For items measured at amortised cost, there are two performance reporting issues: interest income/expense and impairment. The staff's proposal was to have interest (as calculated under IAS 39) displayed in column 1, whilst any charge for impairment would be presented in column 2. The reason for having the latter in column 2 is that it would be interpreted as a revision to an estimate.

Although a majority of the Board supported this idea, some members expressed concern because the interest shown in column 1 would most likely include a factor covering credit risk that had been priced in the original interest rate. They felt it would seem odd that an impairment, being a revision to the original assumption about the credit risk embedded in the particular asset, would be shown in column 1, whilst the factor under revision -- the credit spread over the risk-free rate -- would be presented in column 1. After discussion, the Board agreed to the staff's proposal on the grounds that the credit risk was priced into the interest rate, not into the value of the loan.

Financial assets available for sale

The staff's proposal is that interest be presented in column 1 and any change in the fair value of the financial asset be presented in column 2. Two alternatives were discussed for measuring interest income: historical cost and fair value. The Board agreed to the general principle but decided to address the issue of measuring interest at fair value when it considers the report of the Joint Working Group on Financial Instruments.

Financial assets and liabilities held for trading

The staff's proposal is that remeasurement of fair value be recorded in column 2. There was considerable debate among the Board members on this proposition. Firstly, it was pointed out that not all assets classified as held for trading are really held for trading purposes. Derivatives are an example. The Board agreed to change the label of the category into 'financial assets and liabilities carried at fair value'.

The Board then debated whether a gain or loss on disposal of a financial asset could arise. Several Board members hold the view that recording a gain or loss for an item that is constantly remeasured to fair value is inconsistent with the notion of remeasurement. They argued that the gain or loss would show up simply because the reporting entity did not remeasure the item concerned frequently enough. They suggested the item being remeasured first before being derecognised. Upon derecognition no gain or loss would arise.

Other Board members thought that the nature of the business the reporting entity needed to be considered. They argued that if a company engaged regularly in trading activities, recording a gain or loss on disposal would be justified. The question came up whether the income should be classified as revenues or gains, but that was left open for future discussion. When the Board finally voted on the issue whether a gain or loss could be encountered on disposal (that is, recorded in column 1 rather than column 2), a slight majority of seven to six members voted against it.

Hedge accounting

For fair value hedges, the staff proposed to have all changes in fair value of both the hedged item and the hedging instrument be recorded in column 2, preferably in the same line item. The Board agreed unanimously.

For cash flow hedges, the staff basically proposed two alternative approaches:

Alternative A: Account for a cash flow hedge the same way as for a fair value hedge, that is, display any change in fair value of the hedging instrument in column 2 in the same line where the future transaction would show up. When the future transaction occurs, it would be reported in column 1.

Alternative B: For presentation purposes only, 'recycle' the income effect of the hedging instrument originally recorded in column 2 to column 1 upon occurrence of the future transaction. One Board member pointed out that, in order to be consistent with prior decisions reached (not allowing for recycling and not addressing recognition or measurement issues in the Performance Reporting project), the remeasurement of the hedging instrument would have to go to column 2, whilst the forecasted transaction hedged would be recorded in column 1 (Alternative A). If the hedge covered more than one period, the amount recorded in column 2 would not be an accumulated amount but solely the change in fair value of the hedging instrument for the current period.

Several Board members raised serious concerns. Whilst being consistent with the fundamental principles, Alternative A would be less decision useful because it does not show the offsetting effect of the hedging relationship. They acknowledged, however, that loosening the fundamental principles could lead to consequential amendments to other standards that allow for remeasurement, such as IAS 16 and IAS 21.

After considerable debate the Board directed the staff:

• to develop an example covering inter-period hedges,
• to carry out further research about the possible consequences (and necessary amendments) that could arise for other subjects than cash flow hedge accounting if Alternative B were adopted, and
• bring both before the Board in July.